Controlling Shareholders Must Act in the Interest of the Corporation and All Shareholders

In California, Majority Shareholders and Directors Cannot Use Their Power to Control the Corporation for Their Own Advantage and to the Detriment of the Corporation or the Minority Shareholders

By Gerald P. (“Jerry”) Burleson, Esq., Member of the California Bar

Directors and majority shareholders are fiduciaries who hold their powers to control the corporation in trust. Where a transaction between a majority shareholder or a director and the corporation is challenged, a court will set it aside unless the interested majority shareholder or director can prove the good faith of the transaction and its fairness from the standpoint of the corporation and all of the shareholders. Remillard Brick Co. v. Remillard-Dandini Co. (1952) 109 Cal.App.2d 405, 420-421, quoting from Pepper v. Litton (1939) 308 U.S. 295, 306 [60 S.Ct. 238, 84 L.Ed. 281] . This is so even where there has been a technical compliance with Corporation Code requirements for approval of the transaction. Remillard Brick Co. v. Remillard-Dandini Co.,supra,109 Cal.App.2d at 417.

In Remillard Brick, the majority shareholders of two manufacturing corporations approved contracts under which the sales functions of the manufacturing corporations were transferred to a third corporation that was wholly owned by two majority directors and officers of the manufacturing corporations. The minority shareholder of the manufacturing corporations brought suit to have the contracts set aside as being unfair and inequitable and a fraud on the manufacturing corporations and on the minority shareholder. In their defense, the majority shareholders and the majority directors argued that because the common directorship of the contracting corporations was known and the contracts had been approved by the majority shareholders of the manufacturing corporations, this satisfied the technical requirements for approval of contracts between corporations with common directors, therefore, the minority shareholder had nothing to complain about.

The Court of Appeals in Remillard Brick acknowledged that it appeared that there had been a literal compliance with the approval requirements under the Corporation Code for contracts between corporations with common directorships, but it said that such transactions can still be set aside where they are unfair and unreasonable to the corporation, otherwise majority directors or stockholders could strip a corporation of its assets for their own benefit as long as they disclose their purpose and interest, and the minority stockholders would have no recourse. Remillard Brick Co. v. Remillard-Dandini Co.,supra,109 Cal.App.2d at 417-420.

The importance of Remillard Brick in the arena of California corporate law is its recognition that directors and controlling shareholders are fiduciaries who hold their powers to control the corporation in trust for the benefit of the corporation and all of the stockholders, and if a transaction that benefits a majority shareholder or a majority director is unfair to the minority shareholders, a court of equity will set it aside even if there has been technical compliance with relevant statutory approval requirements, particularly since majority shareholders and directors may be able to use their control power to satisfy those approval requirements.